The hidden deficit in Pakistan’s policies

Balancing short-term accounts by rolling over debts is not sustainable

LAHORE: Provisional figures of budget deficit for fiscal year (FY) 2014-15 are 5.3% of GDP, according to the website of the Finance Ministry. These figures are apparently encouraging from a quantitative perspective since the budget deficit reduced from 5.5% of GDP in FY14.

The focus of the government is to meet the quantitative targets set under the Extended Fund Facility (EFF). In this regard, the government has been successful in raising the tax-to-GDP ratio from 10.1% in FY14 to 11% in FY15. However, these figures should be taken with a grain of salt from a quality perspective.

The indirect tax-to-GDP ratio increased from 6.6% in FY14 to 7.2% in FY15. The petroleum levy increased from Rs103 billion in FY14 to Rs131 billion in FY15, a growth of 28%. Revenue enhancement through such measures promotes lazy behaviour and is anti-reform.

The direct tax-to-GDP ratio increased from 3.5% to 3.8% and this ratio mainly increased by expanding the withholding tax regime and bringing two mini budgets. Despite efforts, the number of tax filers remained stagnant, reflecting a lack of trust among members of Pakistani society in regards to the government. Furthermore, this reflects continuing problems of tax policy and administration and manifests a structural weakness.

Read: IMF grants Pakistan two waivers on budget deficit

The government reduced the total expenditure-to-GDP ratio from 20.6 % in FY14 to 20.3% in FY15. The development expenditure-to-GDP dropped from 4.8% in FY14 to 4.1% in FY15, while current expenditure-to-GDP increased from 15.8 % to 16.2%. This miniscule reduction in total expenditure is achieved at the cost of development expenditure. However, the development expenditure plays a significant role in enhancing productive capacity of the economy by increasing public investment, and is quite important to ‘crowd in’ the private investment when circumstances are far from normal.

The debt issue

The circular debt has re-surfaced. The re-surfacing of circular debt of around Rs300 billion is causing long hours of load-shedding at frequent intervals. The government has already increased electricity prices to a great extent to rein in the circular debt. However, higher electricity prices reduce the amount of receivables by the Power Distribution Companies (DISCOS). This also manifests that the ‘unintended consequences’ of higher electricity pricing is theft and other leakages. This is a reflection of poor electricity governance and manifests another structural weakness.

The government is also relying on higher non-tax revenue to scale down its budget deficit. It booked a profit of Rs399 billion for State Bank of Pakistan (SBP) in FY15, compared to the previous year’s Rs269 billion. In addition, the government was able to get Rs157 billion under the Coalition Support Fund. These short term gains don’t add to the productive capacity of economy.

In short, looking at the budget deficit from the qualitative lens presents a different picture. If the above mentioned gain of nearly Rs0.3 trillion is added to the current provisional figures the deficit would be around 6.4% of the GDP. The role of the government is to complement the private sector in the development of productive capacity.

Read: IMF probing govt’s numbers on last year’s fiscal deficit

The government should not roll over its present commitments into the future through a quantitative discipline by ignoring the structural weaknesses in the economy and continually relying on a regressive tax regime. Since the development of productive capacity is significant from a medium- to long-term economic perspective, this goal is being brushed aside in the current practice. By following quantitative targets, it can attain short term accounting profit at the expense of medium to long term economic loss.

The writer is an Assistant Professor of Economics at the Suleman Dawood School of Business, Lums

Published in The Express Tribune, September 28^th, 2015.

Like Business on Facebook, follow @TribuneBiz on Twitter to stay informed and join in the conversation.